Stephen Mandel Jr.’s Greenwich, Connecticut–based Lone Pine Capital made several significant changes to the top holdings in Lone Cypress, the firm’s flagship long-short equity fund.
But perhaps most significant is that Lone Cypress stood pat with its large position in Valeant Pharmaceuticals International. Although the embattled drug giant slipped from being the fund’s fourth-largest holding to its seventh largest, Valeant remains 3.9 percent of the fund’s assets, according to the fund’s third-quarter letter to investors, obtained by Alpha.
There is no specific discussion in the two-page report about the controversial stock. However, Lone Pine does point out in the letter that the stocks of specialty pharmaceutical companies have fallen “over what we believe to be misplaced concerns about potential drug price regulation.”
The letter notes that the fund’s holdings in this group now trade for between ten and 15 times next year’s earnings. “We project these earnings should grow at double-digit rates even without the acquisitions that have historically been part of their value-creation formulas,” Lone Pine states in the report. “A return to average P/E multiples, combined with earnings growth, should drive very healthy returns for these stocks.”
The letter singles out Valeant, Allergan — which accounts for 2.5 percent of the fund’s assets, up from 2.3 percent at the end of the second quarter — and three stocks that don’t rank among the top 20 holdings: Endo International, Horizon Pharma, and Shire. On the other hand, one health care giant that is conspicuously missing from the top 20 list is hedge fund favorite Illumina. The company, which provides technology for genetic research, was the fund’s fourth-largest holding at the end of the second quarter, accounting for 4.1 percent of assets.
As we reported several weeks ago, Lone Cypress lost 3.6 percent in the third quarter and is up 3.8 percent for the year.
Lone Cypress also added a few names to its top holdings. Two of them are what the firm has long called “Internet disrupters.” These are stocks that constitute many of the fund’s long positions, while many of its short positions are companies that Lone Pine thinks are victims from this trend.
In the third quarter, for example, Amazon.com became the second-largest position in Lone Cypress, behind the Priceline Group, accounting for 4.2 percent of the fund. Lone Pine did not own the stock in any of its funds as of the end of the June quarter.
Tencent Holdings, the Chinese investment holding company of many new-economy companies, is now Lone Cypress’ fifth-largest holding (tied with two others). Again, Lone Pine Capital did not own Tencent’s shares in any of its funds at the end of the second quarter. Lone Cypress kept other significant long positions in these disrupters in its portfolio, including Expedia, Facebook, JD.com and Priceline.
Lone Cypress also added to its positions in several beaten-down sectors, including the energy industry. The additions include two top holdings that announced plans to merge in late September: natural gas pipeline companies Energy Transfer Equity and Williams.
“Both stocks fell along with the entire energy sector, despite both companies’ economics having very little to do with the price of oil,” Lone Cypress asserts in its report. “Based on already contracted projects, we estimate Energy Transfer’s dividends will grow at a 25 percent annual rate for several years, resulting in a 10 percent dividend yield by 2018 based on the current share price.”
Lone Cypress adds that if the company just maintains its current 5 percent dividend yield, the stock will double in three years, “plus the dividends collected in the interim.”